Can a taxpayer get permission to use an alternative apportionment method (separate accounting) to exclude a non-unitary investment entity from its Illinois sales factor?

Subject

Alternative Apportionment

Plain-English summary

A taxpayer that operates automotive parts assembly and sequencing plants in several states, and that also holds interests in three related limited liability companies, asked the Illinois Department of Revenue for permission to use an alternative apportionment method (separate accounting) on its 2018 Illinois Form IL-1120-ST. The taxpayer argued that including one of those LLCs ("COMPANY2," which operates manufacturing facilities in other states) in its Illinois tax base and apportionment factors did not fairly represent its actual business activity in Illinois, because COMPANY2 was allegedly not unitary with the taxpayer and its inclusion nearly tripled the taxpayer's Illinois tax under the taxpayer's own calculations. The taxpayer invoked the "externally consistent" Commerce Clause test and cited Hans Rees' Sons, Inc. v. North Carolina, in which a roughly 270%-370% distortion was found unconstitutional.

The Department did not reach the merits of that distortion argument. Instead, it denied the petition because it was not timely filed. Under 86 Ill. Adm. Code 100.3390(e)(1), a petition for alternative apportionment must be filed at least 120 days before the due date (including extensions) of the return for which the alternative method is sought; a taxpayer who misses that window must file its return using the standard statutory method and can only seek alternative apportionment later, either (2) as an attachment to an amended return, or (3) as part of a protest, a State Officers and Employees Money Disposition Act filing, or a petition to the Illinois Independent Tax Tribunal challenging an audit adjustment — and only where the taxpayer had already asked the auditor in writing to allow alternative apportionment and been refused.

Beyond the timeliness problem, the Department flagged what it viewed as a more fundamental issue: the taxpayer's request suggested it had not correctly applied the ordinary (non-alternative) apportionment rules for partnership income in IITA Section 305. If COMPANY2 truly is not unitary with the taxpayer, then under Section 305(a) and (c) the taxpayer should already be including in its Illinois net income only its distributive share of COMPANY2's business income as apportioned to Illinois in COMPANY2's own hands — not COMPANY2's full tax base — and allocating its share of COMPANY2's nonbusiness income under Section 305(b). In other words, the Department suggested the taxpayer's distortion problem might be a return-preparation issue solvable under existing law, rather than something requiring an alternative apportionment method at all.

As the letter itself notes, this is a GIL, not a Private Letter Ruling. It does not constitute a statement of Department policy, and it is not binding on the Department (2 Ill. Adm. Code 100.1200(b) and (c)).

What this means for you

Taxpayers considering an alternative apportionment petition

If you believe the standard Illinois apportionment formula distorts your true business activity in the state, timing is critical: under 86 Ill. Adm. Code 100.3390(e)(1), your petition generally must be filed at least 120 days before the due date of the return (including extensions) for which you want the alternative method to apply. Miss that deadline, and you must file and pay under the standard method, then pursue alternative apportionment only through an amended return or, in limited circumstances, through a protest or Tax Tribunal petition tied to an audit adjustment you already raised with the auditor in writing.

Taxpayers with non-unitary partnership or LLC investments

Before petitioning for a special alternative method like separate accounting, confirm you are applying the ordinary rules correctly first. This letter suggests that where an investment entity is genuinely non-unitary with the taxpayer, IITA Section 305 already limits what must be included in the taxpayer's Illinois income to that entity's distributive share of income apportioned to Illinois (for business income) or allocated under the usual rules (for nonbusiness income) — not the entity's entire tax base. A perceived distortion may sometimes be resolved by correctly applying Section 305 rather than by seeking alternative apportionment.

Anyone relying on this letter

This is a General Information Letter, not a Private Letter Ruling, so it does not bind the Department and is not a statement of Department policy. It does not resolve whether the taxpayer's distortion argument or its unitary-business claim about COMPANY2 would have succeeded on the merits — the Department declined to reach those questions because the petition failed on timeliness grounds.

Common questions

Q: Did the Department grant this taxpayer's request for alternative apportionment?
A: No. The Department denied the petition because it was not timely filed under 86 Ill. Adm. Code 100.3390(e)(1), which requires that petitions be filed at least 120 days before the due date (including extensions) of the return for which the alternative method is sought.

Q: What should the taxpayer do now that the petition was rejected as untimely?
A: The letter directs the taxpayer to the alternative filing paths in 86 Ill. Adm. Code 100.3390(e)(2) or (e)(3): filing the petition as an attachment to an amended return, or raising it as part of a protest, a State Officers and Employees Money Disposition Act filing, or a petition to the Illinois Independent Tax Tribunal tied to an audit adjustment — but only if the taxpayer had already asked the auditor in writing to permit alternative apportionment and was refused.

Q: Did the Department address whether including COMPANY2 actually distorted the taxpayer's Illinois tax?
A: No. The Department did not reach that question. It denied the petition on timeliness grounds alone and did not evaluate the taxpayer's Commerce Clause "externally consistent" argument or its reliance on Hans Rees' Sons, Inc. v. North Carolina.

Q: What did the Department say about how COMPANY2 should be handled if it's really non-unitary?
A: The Department noted that if COMPANY2 is not unitary with the taxpayer, IITA Section 305 already requires the taxpayer to include only its distributive share of COMPANY2's business income apportioned to Illinois (Section 305(a) and (c)), and to allocate its share of COMPANY2's nonbusiness income separately (Section 305(b)) — rather than including COMPANY2's full tax base in the Illinois return.

Q: Is this letter binding on the Illinois Department of Revenue?
A: No. The letter states it is a GIL that "does not constitute a statement of policy that applies, interprets or prescribes the tax laws, and it is not binding on the Department." See 2 Ill. Adm. Code 100.1200(b) and (c).

Q: Can the taxpayer still get a binding ruling on this issue?
A: The letter notes that if the petition had been timely, an approved alternative apportionment method would have been granted "in the form of a private letter ruling issued under 2 Ill. Adm. Code 1200.110." A taxpayer seeking a binding answer would need to pursue that Private Letter Ruling process through one of the timely channels described above.

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2020.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2020/it20-0002-gil.pdf

Original ruling text

IT 20-0002-GIL 01/21/2020 ALTERNATIVE APPORTIONMENT
Petition for Alternative Apportionment not Timely

January 21, 2020

Re:

Petition for Alternative Apportionment

Dear Xxxx:
This is in response to your request on behalf of the above-named taxpayer for permission to use an
alternative method of allocation or apportionment. Department of Revenue (“Department”) regulations
require that the Department issue only two types of letter rulings, Private Letter Rulings (“PLRs”) and
General Information Letters (“GILs”). PLRs are issued by the Department in response to specific
taxpayer inquiries concerning the application of a tax statute or rule to a particular fact situation. A
PLR is binding against the Department, but only as to the taxpayer issued the ruling and only to the
extent the facts recited in the PLR are correct and complete. GILs do not constitute statements of
Department policy that apply, interpret or prescribe the tax laws and are not binding against the
Department. See 2 Ill. Adm. Code 100.1200(b) and (c). For the reasons discussed below, your
petition cannot be granted at this time.
Your letter states as follows:
Based on ILL Admin Code 86 Section 100.3380(a) TAXPAYER through its
REPRESENTATIVE is hereby requesting that the Taxpayer be allowed to use an alternative
apportionment method on its 2018 Illinois Form IL-1120-ST as the required standard
methodology does not accurately reflect the Taxpayer’s activity within the State of Illinois.
Background:
The Taxpayer operates several assembly and sequencing plants that manufactures parts for
various automotive original equipment manufacturers throughout the country. The taxpayer
has assembly and sequencing plants in STATE, STATE1, STATE2, STATE3, and STATE4.
In addition to the assembly and sequencing plants operated by the Taxpayer, the taxpayer
also invests in and receives K-1’s from the following three Limited Liability Companies:
A) COMPANY – has a loan on a STATE2 facility owned by COMPANY1.
B) COMPANY1 – invests in a partnership that operates a manufacturing facility located in
STATE2.
C) COMPANY2 – operates manufacturing facilities in STATE2, STATE3, STATE 5 and
STATE6.
Discussion of relevant law:
Pursuant to Ill Admin Code 86 Section 100.3380(a) if the normal allocation and apportionment
provisions do not, for taxable years ending before December 31, 2008, fairly represent the
extent of a person’s business activity in Illinois, or, for taxable years ending on or after
December 31, 2008, fairly represent the market for the person’s goods, services, or other
sources of business income, the person can petition for or the Director may, without
permission, permit or require:
(1) Separate accounting

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(2) the exclusion of one or more factors from the formula
(3) the inclusion of one or more additional factors
(4) the use of any other method to create equitable allocation and apportionment of the
taxpayer’s business income.
The taxable income and gross receipts of the various entities listed above, including
TAXPAYER’s activities is as follows:
[Tabular Material Omitted]
The United States Supreme Court has previously outlined a four prong test to determine if the
state tax regime violates the Commerce Clause of the United States Constitution. Per this test,
a state’s tax structure is constitutional when the tax is fairly apportioned. The court ruled that
fair apportionment is one that meets both the “internally consistent” and “externally consistent”
tests. The internal consistency test applies to the overall structure of the tax and how it would
impact interstate commerce. This test does not apply to Group in this situation. The external
consistency test looks to the economic impact of the tax. When an apportionment methodology
is externally inconsistent the U.S. Constitution will require an alternative apportionment factor
to be used to more accurately reflect the taxpayers instate activities. In Groups case the
required inclusion of Enterprises and COMPANY2 in the tax base and apportionment factors
violates the externally consistent test.
The Taxpayer is requesting separate accounting for COMPANY2 for when the taxpayer
prepares their 20XX Illinois income tax return as the inclusion of this entity in the tax base does
not fairly represent the taxpayer’s activity within the State of Illinois under the externally
consistent test. When the activity of COMPANY2 is:
1) Included in the Illinois tax base and apportionment factors on the 20XX Illinois IL1120-ST tax is $$$. (see “Exhibit A” attached)
2) Excluded from the Illinois tax base and apportionment factors as in their 20XX Illinois
IL-1120-ST tax is $$$ (see “Exhibit B” attached)
The inclusion of COMPANY2’s taxable income when they have no nexus related activities in
the state results in a nearly threefold increase in the Illinois tax which does not fairly represent
the taxpayer’s activity in Illinois. COMPANY2 is not unitary with any of the other entities listed
above. In Hans Rees’ Sons, Inc. v. North Carolina ex rel. Maxwell, Comm’r of Revenue, 238
U.S. 123, 133 (1931) the United States Supreme Court ruled that North Carolina’s
apportionment methodology that resulted in a distortion of tax between 270% and 370% did
not accurately reflect the company’s activities within the State of North Carolina and an
alternative method should be used.
Conclusion:
Per the above information we respectfully request that the Illinois Department of Taxation
approve the taxpayers request to allow separate accounting when preparing their 20XX Illinois
income tax returns. If you should have any additional information or need more information
please do not hesitate to contact us directly as we have attached a signed power of attorney
authorizing the department to communicate with our office.
RULING

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Section 304(a) of the Illinois Income Tax Act (“IITA” 35 ILCS 5/304) provides that when a nonresident
derives business income from Illinois and one or more other states, such income shall be apportioned
to Illinois by multiplying the income by the taxpayer’s apportionment factor. For taxable years ending
on and after December 31, 1998, except in the case of an insurance company, financial organization,
transportation company, or federally regulated exchange, the apportionment factor is equal to the
sales factor. IITA Section 304(a)(3) defines the sale factor as a fraction, the numerator of which is the
total sales of the person in Illinois during the taxable year, and the denominator of which is the total
sales of the person everywhere during the taxable year.
Section 304(f) of the IITA states:
If the allocation and apportionment provisions of subsections (a) through (e) and of subsection
(h) do not, for taxable years ending before December 31, 2008,
fairly represent the extent of a
person’s business activity in this State, or, for taxable years ending on or after December 31, 2008,
fairly represent the market for the person’s goods, services, or other sources of business income, the
person may petition for, or the Director may, without a petition, permit or require, in respect of all or
any part of the person’s business activity, if reasonable:
(1) Separate Accounting;
(2) The exclusion of any one or more factors;
(3) The inclusion of one or more additional factors which will fairly represent the person’s
business activities or market in this State; or
(4) The employment of any other method to effectuate an equitable allocation and
apportionment of the person’s business income.
Department Regulations Section 100.3390 sets forth procedures for taxpayer petitions pursuant to
IITA Section 304(f). Section 100.3390(e) describes timely filed petitions:
e) Timely Filed Petitions. A taxpayer petition for use of a separate accounting method or any
other alternative apportionment method will not be considered by the Director unless that
petition has been timely filed. A taxpayer who petitions the Director for an alternative
apportionment formula does so subject to the Department's right to verify, by audit of the
taxpayer's return and supporting books and records within the applicable statute of limitations,
the facts submitted as the basis of the petition. A petition for alternative allocation or
apportionment is timely filed if the petition is filed:
1) 120 days prior to the due date of the tax return (including extensions) for which
permission to use an alternative method is sought. A taxpayer who does not petition
more than 120 days prior to the due date of the original return must file the return and
pay tax according to the statutorily approved allocation or apportionment method. If the
petition is approved, the Department shall grant permission to use an alternative
apportionment method in the form of a private letter ruling issued under 2 Ill. Adm. Code
1200.110.
2) as an attachment to a return amending an original return which was filed using the
statutory allocation and apportionment rules. A taxpayer who has not filed a petition for
alternative apportionment under subsection (e)(1), or whose subsection (e)(1) petition
has been rejected, may thereafter file a petition with an amended return. The

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explanations section of the amended return should state that the amended return
includes a petition for alternative apportionment that should be referred to the Legal
Services Bureau/Income Tax, and a copy of the amended return should be mailed to
the Legal Services Bureau/Income Tax, at the address in subsection (d). If the amended
return results in a claim for refund, the Department will consider the petition, along with
any other issues raised in the claim for refund, pursuant to the procedures set forth at
Section 100.9400.
3) as part of a protest, an action filed under the State Officers and Employees Money
Disposition Act [30 ILCS 230] or a petition to the Illinois Independent Tax Tribunal
regarding a notice of deficiency issued as a result of the audit of the taxpayer's return
and supporting books and records; provided that the audit adjustments being protested
result in the need for the petition for alternative apportionment. Alternative
apportionment may not be raised in a protest, a court filing or a petition to the Illinois
Independent Tax Tribunal regarding a notice of deficiency unless the taxpayer has
requested in writing that the auditor allow the use of alternative apportionment and the
request was denied, or the audit disallows an alternative method of apportionment used
by the taxpayer on its return. The disallowance of the use of alternative apportionment
in an audit may be reviewed by the Informal Conference Board.
Your petition for alternative apportionment is not timely under Regulations Section 100.3390(e)(1).
Therefore, you must follow the petition procedures set forth in Section 100.3390(e)(2) or (e)(3).
However, please note that the information provided in your petition suggests that you have not
correctly applied the apportionment provisions of Article 3 of the IITA. IITA Section 305 sets forth the
method of apportionment of a nonresident partner with respect to such partner’s distributive share of
the income of a non-unitary partnership.
§ 305. Allocation of Partnership Income by partnerships and partners other than residents. (a)
Allocation of partnership business income by partners other than residents. The respective
shares of partners other than residents in so much of the business income of the partnership
as is allocated or apportioned to this State in the possession of the partnership shall be taken
into account by such partners pro rata in accordance with their respective distributive shares of
such partnership income for the partnership's taxable year and allocated to this State.
(b) Allocation of partnership nonbusiness income by partners other than residents. The
respective shares of partners other than residents in the items of partnership income and
deduction not taken into account in computing the business income of a partnership shall be
taken into account by such partners pro rata in accordance with their respective distributive
shares of such partnership income for the partnership's taxable year, and allocated as if such
items had been paid, incurred or accrued directly to such partners in their separate capacities.
(c) Allocation or apportionment of base income by partnership. Base income of a partnership
shall be allocated or apportioned to this State pursuant to Article 3, in the same manner as it is
allocated or apportioned for any other nonresident.
Your petition states that the taxpayer is not engaged in a unitary business with COMPANY2.
Assuming that is true, then under Section 305(a) the taxpayer should include in its Illinois net income
only its distributive share of the business income of COMPANY2 that is apportioned to Illinois in the

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hands of COMPANY2 under IITA Section 305(c). The taxpayer should allocate its distributive share of
any of the nonbusiness income of COMPANY2 under IITA Section 305(b).
As stated above, this is a GIL. A GIL does not constitute a statement of policy that applies, interprets
or prescribes the tax laws, and it is not binding on the Department.

Sincerely,

Brian Stocker
Associate Counsel (Income Tax)